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Rescission of Cannabis Protection Law Creates Confusion for Banks and Investors

Seven states so far have legalized cannabis for recreational use and medical marijuana is legal in 21 other states, but federally-funded banks cannot serve the needs of cannabis-related businesses, because it is still an illegal drug under federal law. Industry experts, however, contend that the banks have been allowing these businesses to deposit money or access some credit card services, on a “don’t ask, don’t tell” basis.

Established cannabis businesses have had long-term relationships with bankers, while newer entries to the industry are taking a multi-prong approach, so if one door closes they can go elsewhere, says Jim Fitzpatrick, founder and principal of Solutioneers, a consulting firm that provides compliance and land use services to cannabis firms.

Many cannabis-related operators conceal the true nature of their business in order to obtain banking services, says Matthew Karnes, founder of GreenWave Advisors, a cannabis research and advisory firm.

Meanwhile, real estate investors focused on providing space for cannabis operators have launched REIT—some public and some private—to raise capital, amassing $478 million so far, according to New Frontier Data, an analytics company focused on the cannabis business, and Viridian Capital Partners, a strategic advisory firm.

But with so much money involved, some banks are starting to move forward in implementing compliance technologies to monitor customers’ business operations to ensure compliance with state cannabis laws, according to Karnes.

Then last week U.S. Attorney General Jeff Sessions announced that he was cracking down on the cannabis industry by rescinding the Obama Administration Cole memorandum, which had protected cannabis-related businesses in states that had legalized pot in some form. This move by Sessions gave federal prosecutors wider discretion in enforcing federal drug law, but was ultimately aimed at slowing investment in the pot industry, which is exactly what is happening.

“There has been no indication for a widespread directive to cease and desist in state regulated cannabis markets, and we expect law enforcement priorities to remain status quo,” Karnes says, noting that Rohrabacher–Farr, a federal budget amendment, restricts the use of federal funding to prosecute medical marijuana enterprises.

He notes that the economic stimulus of a legalized cannabis industry is substantial, and states are also relying on tax revenue from cannabis operations and sales. In California alone, the cannabis industry is expected to generate about $1 billion annually for state and local government coffers. Sessions’ move has created political backlash on both sides of the isle, Karnes points out.

“Sessions’ rescission and these headwinds may not only stymie the purpose of his initiative, but might very well have the unintended consequence of accelerating the timeline for progressive changes in federal laws.”

Fitzpatrick notes that Governors John Hickenlooper, of Colorado, and Kate Brown, of Oregon, have called on the federal government to legalize cannabis and members of Congress, including Sen. Corey Booker (D-NJ), are initiating legislation to change federal marijuana law.

But Sessions’ move has created more uncertainty for banks, Karnes notes. “With the clear and present risk of operating a cash only business, the biggest issue at hand centers on banking,” he says, noting that current FinCEN guidance requires banks to ensure its cannabis customers are in compliance with the new laws, and until FinCEN guidance is revised, banking for cannabis businesses will remain problematic.

To overcome the banking deficit, California’s lawmakers have directed CPA Fiona Ma, who represents California’s 2nd district on the board of equalization and is a candidate for State Treasurer, and State Controller John Chiang to develop a public bank to serve the cannabis industry. But creating a complex structure like a public bank would take a lot more time than the cannabis industry can afford, Karnes notes.

“It’s ironic that the state can launder its cannabis money by depositing its cannabis tax revenue in banks, but businesses generating that revenue cannot,” he says.

Moreover, the confusion caused by the Sessions rescission “has made a gray area grayer,” he adds. The Cole memorandum had provided some guidelines for investors, but “now, no one knows when the shoe could drop,” with many investors temporarily remaining on the sidelines, which could have an impact on short-term growth within the industry.

“Accordingly, we expect to see a regression to lower valuations that may eventually create more attractive investment terms, while creating a larger funding burden on businesses,” Karnes adds. “Eventually, however, we expect a return to confidence and growth.”

Sessions created confusion for investors, Fitzpatrick agrees, pointing out that cannabis-related businesses had been enjoying better access to capital than ever before, but following Sessions’ announcement cannabis stocks took a dive, and now investment capital will not be as available or will be delayed. But he also remains optimistic about investors’ eventual return and contends that people in the industry don’t expect Sessions’ action to materially affect them.